Collateral Warranties: Stepping-in

The High Court case of The Royal Bank of Scotland Plc v Chandra [2010] EWHC 105 (Ch) provides an interesting, rare example of mandatory step-in by a bank pursuant to a collateral warranty. This differs from the usual position of the bank simply having the option to do so.

To view the article in full, please see below:

Full Article

The High Court case of The Royal Bank of Scotland Plc v Chandra [2010] EWHC 105 (Ch) provides an interesting, rare example of mandatory step-in by a bank pursuant to a collateral warranty. This differs from the usual position of the bank simply having the option to do so.

Background

The Royal Bank of Scotland plc (the bank) agreed to provide finance to the defendants' company for the acquisition of a property to be developed into a hotel under an amended JCT Standard Form of Building Contract 1998 Edition with Quantities. Costain Limited was the contractor. As part of the preconditions to drawdown of the funds, the bank was granted a collateral warranty from the contractor in favour of the bank. The bank was also granted a debenture creating fixed and floating charges over the defendants' company's business and assets, with the usual power to appoint an administrative receiver as agent of the defendants' company and a first legal charge over the property.

Collateral Warranties and Step-In

Collateral warranties provided by contractors to banks are a standard feature of construction financing. They give banks a direct course of action against the contractor in respect of the performance of the building contract, without which the bank's security over the building and property might be significantly less valuable. Typically, they also confer on the bank a right, but not an obligation, to step-in and take over the building contract as employer, either itself or through a person nominated by it. In this way the bank may ensure the continuation of the construction works by the original contractor, and so avoid a costly re-negotiation of the contract or the engagement of a replacement contractor. However, the unusual feature of the warranty in this case was that, instead of the step-in provisions conferring a right exercisable only at the option of the bank, it was a mandatory provision, requiring the bank to step-in. The evidence made it clear that the bank had taken the unusual step of agreeing to this because the contractor had been concerned as to the ability of the defendants' company to meet its obligations under...